India, a good bottom-up story

Kaku Nakhate, President and Country Head, Bank of America (BofA), is a career investment banker. A management graduate from Narsee Monjee Institute of Management Studies, Mumbai, 46-year- old Ms. Nakhate spent 19 years at DSP Merrill Lynch rising to be head of its global markets division before leaving the investment bank in 2009 when it was merged with BofA. She joined J.P. Morgan as its Vice-Chairperson in India but BofA lured her back within a year. BofA’s investment banking business has grown rapidly under Ms. Nakhate — it is at the top of the chart this year managing two landmark deals in Jet-Etihad and Diageo-United Spirits. In this interview with The Hindu, Ms. Nakhate dwells on the rupee, the outlook for the markets and the economy. Edited excerpts:

Where do you see the economy going in the next one year?

We’ve been slowing down for several quarters now, and it will take time for the capital equipment cycle to turn. We’ve been able to manage the twin deficits despite this being an election year.

Inflation is a concern but the good thing is that our agricultural output is likely to be good. While this will offer some relief in the short-term, we have to follow up with reforms.

On the ground we need to see projects starting such as power plants, road projects and so on. The time is right now for us to invest in the manufacturing sector.

We are very good in services but we have a young population today that needs jobs and for that we need to invest in manufacturing.

Do you think the rupee is fairly valued at Rs.60-62 to a dollar?

I think so. My personal view is that it will reach Rs.65 at the outer band but I don’t believe it will go down to Rs.70. On the other side, I don’t think we should let it appreciate beyond Rs.60.

The slide was indeed very fast but the fact is that there is a lot of pressure on other countries as well to create jobs. When the rupee appreciated from Rs.49 to Rs.45 some years back, we failed to add to our reserves and we are paying the price for that now. The depreciation from Rs.53 to Rs.62 has protected a lot of software jobs.

But what about the fall side, where this has added to inflation?

Partly yes, but you cannot have so many of our young people out of jobs. This bit on importing inflation is our own creation.

What’s your outlook for the stock markets?

I’m actually bullish in the short-term. Valuations are at a good level now. India has always been good as a bottom-up story. Leaving aside infrastructure sector, which still needs some clarity, I think we will see a rise ahead of elections.

Our research shows that certain sectors have come to an inflection point from a [PE] multiples point of view. There is no new capacity coming up and this means pricing power will return.

We are bullish on auto, especially because India is an export hub now and the success is largely because of the currency value. I think 60-62 is a sweet spot for the rupee. The technology sector continues to be good but I think it is at the highest market cap now. I think we should also start looking at sectors such as steel where companies have improvised.

What about election-related uncertainty?

I think so long as it is not a Third Front formation, it will be positive for the markets. The whole corporate world, including multi-nationals, wants Narendra Modi, especially those who have had experience in Gujarat. But I don’t know what his doability factor will be.

The Congress has also realised the pitfalls and will learn from its experience. I feel that the results of the State elections now will set a direction for the markets.

What do you think will be the impact on India when the Fed starts to taper off its bond-buying programme?

Compared to other countries, India is in a better position. The reason is that our internal debt is more than our external debt. So, the volatility on the interest rate will be measured. Having said that, I think the government is taking the right step in deepening the bond markets.

On the rupee, one can look at maybe 5 per cent downside. Where I think India will get affected is in the fund allocations.

There are two things that we are talking about: one is money moving back from emerging markets to developed ones, and two, money moving from debt to equity. Both these allocations will have some impact on India in terms of money flow. Right now, debt funds continue to have good allocations. India might get a higher preference within allocations but the whole pool of allocations will itself be less.

So are you then saying that we might not see the violent churn in the markets that we saw in the May-August period?

Well, part of the violent churn was also because of the steps we took on tightening. Those were wrong. The move from 60 to 68 was more a liquidity move. Today also the markets have become a bit illiquid.

The NDF (non-deliverable forwards) markets are now showing higher hedging cost which is a result of illiquidity. So, broadly, India will be less affected than others and both the Ministry (of Finance) and the RBI are on the same page to reduce volatility. It’s interesting also with the change at the Fed. (Janet) Yellen has to spell out her policy and if she says tapering has to begin then it has to begin.

She’s just starting off and cannot change her assessment. So, to my mind, it (tapering) will not be a first quarter (2014) event. The monkey is on the Fed’s back now. Our house view is that it is more towards March and maybe, even beyond. There is a deadlock event in January on debt and there is a Feb.7 deadline…. these are critical events that have to be kept in mind for tapering. That’s why we feel it is difficult.

Talking of Bank of America, is it right to assume that you prefer fee-based to fund-based businesses?

No, I don’t think so. We did a lot of landmark deals in investment banking but what we have been able to establish is a very good working relationship between fund and non-fund-based activities. It’s not just about doing a Diageo (USL-Diageo deal) but doing the funding part of it, the escrow part, forex part of it, and so on. It’s about how you are able to connect the different parts of business to optimise your revenue. I think the merger of Bank of America and DSP Merrill Lynch was perfect because there was little overlap. Our biggest growth in the last two years has been in the global transaction business. We were not aggressive in that space earlier, but today we are called in for every deal in transaction services. Investment banking is certainly more visible but we have done equally well in our transaction business, foreign exchange and so on. Citibank has been very strong with U.S. companies but you will now see us getting strong with multi-nationals. We’ve always had a strong equity franchise in India. We are currently number one and our research has also been voted as the best.

What are your thoughts on entering retail banking in India?

Currently we are not taking any steps in that direction. We need to be stronger first. It’s not in our consideration for the immediate future. There is no need to rush, and get every revenue in today. The reach also has to be there.

What do you think of the RBI’s proposal to persuade foreign banks to set up wholly-owned subsidiaries in India?

It’s definitely a step in the right direction, especially the one about allowing M&As. That can throw up a lot of opportunities. We are waiting for the details and final rules to be spelt out. The moment you decide to subsidiarise, there are a few things to note.

The counter-party becomes local, the country rating changes… when the rules come out, we’ll know if we are going to make it better for the client or make it worse by subsidiarising. It’s not so easy. We have been meeting our priority sector targets, and we will continue to do so. We don’t want to jump into it but see it and then take a call. We have to see what stand the new government takes. The best thing I hear from the RBI is that near-preferred status will be given. That, at least makes me think. The tax issue also has to be solved.